Healthcare competition saves lives

Marty Gaynor, Carol Propper, 23 August 2010

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Governments faced with rising costs and growing demand are constantly searching for methods of delivering higher productivity in healthcare, or put more simply, ways to achieve higher quality without higher spending – and the challenge is not likely to go away any time soon (Fogel 2008).

One mechanism currently in favour is to encourage competition between the suppliers of healthcare. But will this work? The appeal is simple – competition works in the rest of the economy, so why not in healthcare?

Unfortunately for politicians, the simple appeal does not necessarily translate across sectors of the economy. There is, in fact, no strong theoretical support for competition in healthcare leading to better outcomes – the predictions of economic theory on this issue are quite ambiguous (Gaynor 2006). Yet, under certain conditions, theory models do support competition – this is when prices are fixed by government and hospitals compete in terms of quality.

Testing this theory is often difficult, because competition in healthcare markets is endogenous to quality. The presence of a high quality hospital may mean that competitors stay out of its market. Or hospitals which are cutting edge tend to be located in urban areas and also attract sicker patients. In both of these situations it will appear that competition is associated with lower quality. Dealing with this statistically is not easy without some kind of natural experiment, as case mix is very difficult to measure precisely.

The UK National Health Service is subject to frequent policy change as politicians use healthcare as part of their drive to win supporters. The last Labour administration introduced competition between healthcare providers as part of its drive to increase productivity in healthcare. In 2006 the government mandated that all patients must be offered the choice of five – and by 2008 any – hospital in the National Health Service for their treatment. In addition, the prices that hospitals could charge were fixed by the government in a “yardstick competition” type regime.

Evidence from a natural experiment

This policy change provides a natural experiment that researchers can exploit. Hospitals compete in geographical markets because patients prefer, among other things, to be treated closer to home. Hospitals thus vary in the extent to which they face competitive forces simply because of geography. Exploiting this fact allows researchers to look at outcomes pre- and post- competition policy across different markets.

In recent research along with Rodrigo Moreno-Serra (Gaynor et al. 2010), we look at all admissions to hospitals in the National Health Service – around 13 million admissions – pre- and post-policy. We find that hospitals located in areas where patients have more choice are of a higher clinical quality – as measured by lower death rates following admissions – and their patients stay in hospital for shorter periods compared with hospitals located in less competitive areas. What’s more, the hospitals in competitive markets have achieved this without increasing total operating costs or shedding staff. These findings suggest that the policy of choice and competition in healthcare can have benefits – quality in English hospitals in areas in which more competition is possible has risen without a commensurate increase in costs.

One reason that the policy may be having this impact is the fact that prices are externally fixed. Research for the UK showed that when competition was introduced in the early 1990s in a regime that allowed hospitals to negotiate prices as well as quality there was a fall in clinical quality in more competitive areas. Waiting lists, however, declined for these hospitals. This is supported by economic intuition. Where quality is hard to observe, the elasticity of demand will be low. Waiting lists on the other hand are easy to observe. Buyers of healthcare will therefore have a greater elasticity of demand with respect to the latter than the former and so suppliers will tend to compete on the latter and on price, whilst shaving the less well observed clinical aspects of quality (Propper et al. 2008).

These results suggest that the details of the policy matter. Competition under fixed prices appears to have beneficial results while competition where hospitals bargain over price and quality does not. This in turn has policy implications for governments who are keen on introducing market forces to healthcare. If competition is to work, price regulation has to be retained. A free-for-all in prices would mean a return to the “internal market” of the 1990s, a regime in which hospitals competed vigorously on waiting times and ignored aspects of quality that are more difficult to measure. Another issue to be explored is the tendency of the UK government to merge failing hospitals. While mergers are popular with finance ministries in NHS-type systems because they remove what is often seen as “excess capacity” and ineffective management (Bloom et al. 2010), removing capacity by merger will limit the extent of competition and may stifle the impetus given by competitive forces to improve outcomes for patients.

References

Bloom, Nicolas, Carol Propper, Stephen Seiler, and John Van Reenen (2010), “The impact of competition on management quality: evidence from public hospitals”, NBER Working Paper 16032.

Fogel, Robert W (2008), “Forecasting the cost of US health care in 2040”, NBER Working Paper 14361.

Gaynor, Martin (2006), “Competition and Quality in Health Care Markets”, Foundations and Trends in Microeconomics, 2(6):441-508.

Gaynor, Martin, Rodrigo Moreno-Serra, and Carol Propper (2010), “Death by Market Power: Reform, Competition and Patient Outcomes in the National Health Service”, NBER Working Paper 16164.

Propper, Carol, Simon Burgess, and Denise Gossage (2008), “Competition and Quality: Evidence from the NHS Internal Market 1991-9”, The Economic Journal, 118(525):138-170.

Topics: Competition policy, Health economics
Tags: competition, healthcare, internal markets

Marty Gaynor

Professor of Economics and Public Policy at Carnegie Mellon University

Professor of Economics of Public Policy, CMPO, University of Bristol; Professor of Economics, TBS, Imperial College and CEPR Research Fellow